The truth about the 'chained CPI' and Social Security

It's a benefit cut. It's not merely a "technical" change. It's not a "more accurate" measure of inflation.

The "chained CPI" has become one of the linchpins of the debate in Washington over what to do about the cost of Social Security. The idea is to ratchet back the annual cost-of-living adjustment provided to recipients by basing them no longer on the standard consumer price index, but this new creature. Its virtue, supposedly, is that it points to a slower inflation rate than the unchained index, by about .3% a year.

But as I wrote in 2011, it's a stealth benefit cut for seniors. After 10 years, the average Social Security retiree will be getting 3% a year less than under current law; after 20 years it's 6%. The change is presumed to be almost painless--who would notice a lower cost-of-living adjustment that amounts to three-tenths of one percent. So the proposal has garnered the favor of Democrats in Congress and President Obama, who seem to think they can offer it as a concession to Republicans and get something good in exchange, like a tax increase.

But as economist Dean Baker has observed, that's a bigger change than the income tax increase levied on the wealthy in the recent budget deal--and Washington thought that was significant enough to battle over it for years.

In recent weeks a white paper endorsing the "chained CPI" has been landing on lawmakers' desks. "Measuring Up: The Case for the Chained CPI" was produced by an outfit linked to Peter G. Peterson, the hedge fund billionaire whose hostility to Social Security and Medicare is a byword in Washington.

The paper makes a lot of questionable claims. It's based on the assumption that the "chained CPI" is a "more accurate" measure of inflation, which is only fair. But there are no grounds for that claim.

The "chained CPI" works by incorporating "substitution" into the inflation measure. The idea is that if one thing you buy goes up in price, you'll buy less of it and more of something similar that hasn't gone up as much. So your cost of living won't rise as fast as the straight price increases in the 200 categories of goods and services measured by the CPI. Gala apples shooting up in price? You'll buy Fujis instead.

A few problems with this: First, the regular CPI already incorporates this sort of substitution. The "chained CPI" looks at more dramatic changes in purchasing patterns--as Social Security's chief actuary, Steve Goss, observed at a recent event sponsored by the AARP, it's more like if cars get more expensive, do you put your money into a flat-screen TV instead?

Another problem is that there's no evidence that seniors make these sorts of changes in their lives. If they don't, then the regular CPI understates the inflation they face, and the "chained CPI" is even worse. Indeed, the Bureau of Labor Statistics has been experimenting with a price index designed to more closely reflect the purchases of the average senior by overweighting medical and housing expenses; it rises at about .2% faster than the CPI.

Finally, is the "chained CPI" "more accurate"? The only answer is "more accurate for what?" Any CPI version measures only what's within the index. The "chained CPI" might measure what happens among people who make the substitutions it defines, but for people not making those choices, it's less accurate. And since the behavior it purports to incorporate is speculative anyway, there's no way of saying that it's more accurate at measuring inflation in the real world, or for any particular community of Americans.

Let's face it. The "chained CPI" is a benefit cut, dressed up in the faux-finery of economic rigor. Can't Washington be even a teensy bit honest about what it's up to?